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Business News/ Opinion / Is the Reserve Bank of India bracing for currency volatility?
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Is the Reserve Bank of India bracing for currency volatility?

To make the point that the RBI is watching and won't hesitate to step in if it feels that there is a speculative attack on the currency in the coming weeks

Shyamal Banerjee/MintPremium
Shyamal Banerjee/Mint

The Reserve Bank of India’s (RBI’s) intervention in the currency markets is always complex and almost always confidential. You hear of the invisible RBI hand through market whispers, which are only confirmed after a comfortable lag, when the central bank releases data on interventions in its monthly bulletins. It’s rare for the RBI to give fair warning on its intent to intervene. But that is apparently what it did on Wednesday evening when in a crisp 70-word statement, it said that apart from interventions in the over-the-counter (OTC) market, it will also intervene in the exchange-traded currency markets “if required". Although based on disclosures in the RBI bulletin released on Thursday, it seems the RBI already intervened in the futures segment back in September to the tune of $355 million.

The short statement has led to a long bout of speculation on what prompted the RBI to make such an announcement and what its impact would be. After conversations with a number of people in the foreign exchange markets, this is what emerged as the most likely explanation and impact of the announcement.

Stripping out all the technicalities of the announcement, most believe that the basic intent behind the circular was to warn off speculators. To make the point that the RBI is watching and won’t hesitate to step in if it feels that there is a speculative attack on the currency in the coming weeks. Most have taken that message.

According to the head of forex at a large foreign bank, the RBI is ensuring that it has control over all segments of the forex market. “If they want to control the rupee, they have to control every segment," he said, requesting anonymity. He added that the exchange-traded market has become significant over time and the RBI can’t stay out of it. “They are also trying to keep speculators on their toes, because now no one knows where they will intervene. That is sensible," he said.

The head of treasury operations at a mid-sized foreign bank, who also declined to be identified, said the nervousness stems from the experience of 2013 when volumes in exchange-traded derivatives surged suddenly. This was largely speculative activity, which added to the pressure on the rupee, on a downward spiral at the time, he said.

“Sentiment can move the exchange-traded market quite quickly, which can impact other segments of the forex markets. So this, most likely, is a warning to speculators that we are watching," this person said.

According to data from the exchanges, turnover in the exchange-traded currency segment spiked between April 2013 and June 2013, hitting a high of 12 trillion in June. On 9 July 2013, the RBI had put curbs on proprietary trading by banks in the exchange-traded currency derivative market to try and limit speculation. These curbs were reversed last year.

The RBI is basically trying to say that it is guarding the whole market, said Mathew Jones, head of technical research at Almus Risk Consulting, a forex advisory firm. Jones feels that the nervousness could be stemming from the upcoming US Federal Reserve meeting (at which the Fed is expected to hike rates) and also from the movements in the Chinese currency. A devaluation of the Chinese currency in August sparked off volatility, which impacted emerging market currencies. On Wednesday, China again let the yuan weaken considerably to a four-year low.

Pressure on emerging market currencies after the Fed decision can’t be ruled out, said the head of forex quoted above. The RBI doesn’t want to control direction of the currency but it certainly wants to control the pace at which the currency moves in that direction, he said explaining the timing of the RBI’s move.

But will it work? An official at one of the exchanges said the RBI may want to avoid clamping down on participation in the market like it was forced to do in 2013. Intervening in the exchange-traded market, as it does in the OTC market, will allow it to manage the market if needed without reintroducing curbs on participation. “This is a smoother way of doing it," said the person.

The RBI has had conversations with public sector banks in recent weeks to understand how the markets work, in preparation for the Wednesday announcement, said at least two of the people quoted above. Still, some in the market are of the view that the exchange-traded market is not large enough to impact the broader markets. They feel that interventions in the OTC market give the RBI a strong enough hand. “The OTC market should be good enough for intervention. It will percolate through to all segments of the market," said Samir Lodha, managing director at QuantArt Markets, a forex advisory and research firm. He added that the platform of intervention does not make a substantial difference. Some of the others quoted above agreed with that view and felt that participation in the exchange-traded segment has remained thin.

They also say that trouble can easily emerge from the offshore market or the non-deliverable forwards market—one which the RBI has little control over. “While the RBI does not control that market, they can set up a mechanism to intervene if they want to and they probably should," said one of the people quoted above.

Ira Dugal is assistant managing editor, Mint.

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Published: 10 Dec 2015, 07:09 PM IST
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